With a price-to-earnings (or "P/E") ratio of 34.2x Tianjin Tianyao Pharmaceuticals Co., Ltd. (SHSE:600488) may be sending bearish signals at the moment, given that almost half of all companies in China have P/E ratios under 29x and even P/E's lower than 18x are not unusual. Nonetheless, we'd need to dig a little deeper to determine if there is a rational basis for the elevated P/E.

Recent times have been quite advantageous for Tianjin Tianyao Pharmaceuticals as its earnings have been rising very briskly. The P/E is probably high because investors think this strong earnings growth will be enough to outperform the broader market in the near future. You'd really hope so, otherwise you're paying a pretty hefty price for no particular reason.

View our latest analysis for Tianjin Tianyao Pharmaceuticals

Does Growth Match The High P/E?

The only time you'd be truly comfortable seeing a P/E as high as Tianjin Tianyao Pharmaceuticals' is when the company's growth is on track to outshine the market.

Taking a look back first, we see that the company grew earnings per share by an impressive 181% last year. However, the latest three year period hasn't been as great in aggregate as it didn't manage to provide any growth at all. Accordingly, shareholders probably wouldn't have been overly satisfied with the unstable medium-term growth rates.

Weighing that recent medium-term earnings trajectory against the broader market's one-year forecast for expansion of 42% shows it's noticeably less attractive on an annualised basis.

In light of this, it's alarming that Tianjin Tianyao Pharmaceuticals' P/E sits above the majority of other companies. Apparently many investors in the company are way more bullish than recent times would indicate and aren't willing to let go of their stock at any price. Only the boldest would assume these prices are sustainable as a continuation of recent earnings trends is likely to weigh heavily on the share price eventually.

The Bottom Line On Tianjin Tianyao Pharmaceuticals' P/E

Generally, our preference is to limit the use of the price-to-earnings ratio to establishing what the market thinks about the overall health of a company.

We've established that Tianjin Tianyao Pharmaceuticals currently trades on a much higher than expected P/E since its recent three-year growth is lower than the wider market forecast. Right now we are increasingly uncomfortable with the high P/E as this earnings performance isn't likely to support such positive sentiment for long. If recent medium-term earnings trends continue, it will place shareholders' investments at significant risk and potential investors in danger of paying an excessive premium.

It is also worth noting that we have found 2 warning signs for Tianjin Tianyao Pharmaceuticals (1 is a bit unpleasant!) that you need to take into consideration.

If you're unsure about the strength of Tianjin Tianyao Pharmaceuticals' business, why not explore our interactive list of stocks with solid business fundamentals for some other companies you may have missed.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.
This article by Simply Wall St is general in nature. We provide commentary based on historical data and analyst forecasts only using an unbiased methodology and our articles are not intended to be financial advice. It does not constitute a recommendation to buy or sell any stock, and does not take account of your objectives, or your financial situation. We aim to bring you long-term focused analysis driven by fundamental data. Note that our analysis may not factor in the latest price-sensitive company announcements or qualitative material. Simply Wall St has no position in any stocks mentioned.